Putin Pals Dealing With U.S. Firms Make Sanctions Useless

The U.S. government sanctioned Rossiya and its chief executive, Yury Kovalchuk, who owns 40 percent of the bank. Photographer: Alexander Nikolayev/AFP via Getty Images

June 25 (Bloomberg) -- To see why U.S. economic sanctions
against Russia are likely to have limited impact, follow the
spending of a small Delaware-incorporated, Nasdaq-traded
television company named CTC Media Inc.

While CTC Media has a market capitalization of just $1.7
billion, it’s a good example of the way Russia’s economy has
become so closely intertwined with U.S. business that it’s
difficult to separate them. And once you unwind any of the
string, one end is likely to lead, with twists and turns, to
Russian President Vladimir Putin’s inner circle.

The U.S. has issued five rounds of sanctions in response to
Russia’s seizure of Crimea and its alleged backing of militants
who have taken over part of Ukraine. The U.S. would be ready to
issue further restrictions if Russia escalates tensions in
Ukraine, Treasury Secretary Jack Lew said June 19 in Berlin.

The sanctions were designed to minimize harm to U.S.
companies, which also leaves them open to some wide loopholes.
Funds from U.S. firms flow legally through these gaps to
companies linked to blacklisted entities or people. In CTC’s
case, it is paying tens of millions of dollars to Video
International, a Russian advertising firm part-owned by OAO Bank
Rossiya. In March, the U.S. sanctioned the St. Petersburg bank
and its largest shareholder, financier and media magnate Yury
Kovalchuk, calling him Putin’s “personal banker.”

No Business, Period

“When somebody is on the sanctions list, American
companies shouldn’t do business with them, period,” said David
Kramer, a former U.S. assistant secretary of state and now
president of Freedom House, a Washington-based non-profit that
advocates for democracy and civil liberties. “This may not be a
technical violation of the law, but it certainly is a violation
of the spirit.”

Four days after Kovalchuk and his bank were sanctioned, CTC
formed a compliance committee to ensure that its procedures
comply with the U.S. restrictions, CTC spokesman Igor Ivanov
said.

“Our coordinated and carefully calibrated approach has put
enormous pressure on Russia, with limited collateral damage to
the U.S., European, and global economy,” Lew said at a
conference about Treasury’s efforts on June 2 in Washington.

The impact of sanctions is lessened because the U.S. has
mostly targeted individuals rather than companies. For example,
although Igor Sechin, chief executive officer of Russian oil
giant OAO Rosneft, was sanctioned in April, his company is not.

Rosneft, Exxon

That approach enables Exxon Mobil Corp. to keep working
with Rosneft. The U.S. oil company reached an agreement in May
with Rosneft, extending a pact to build a plant to liquefy
natural gas for export in eastern Russia. Sechin himself signed
the agreement because the U.S. rules allow him to continue to
act as signatory for the company, according to Exxon. Exxon
Mobil, through a 2011 deal with the state-run crude producer,
owns drilling rights across 11.4 million acres of Russian land.
The partnership gives Rosneft the ability to buy stakes in
Exxon’s North American projects.

Exxon CEO Rex Tillerson appeared last week at a conference
in Moscow with Sechin, outlining further prospects in Russia.
Sechin is Putin’s former deputy chief of staff.

“We comply with all applicable laws and regulations in all
countries,” said Alan Jeffers, a spokesman for Exxon.

While U.S. entities aren’t prohibited from dealing with
Rosneft, they should consult with the Office of Foreign
Assets Control before engaging in transactions with designated
individuals such as Igor Sechin, a spokeswoman for the Treasury
said. She declined to comment on whether Exxon had consulted
with the Department.

Russian TV Network

The CTC saga also illustrates the difficulty of
implementing sanctions. It revolves around Rossiya, the
blacklisted Russian bank, which holds minority stakes in both
CTC and one of CTC’s service providers, Video International.

Originally called StoryFirst Communications Inc., CTC was
founded in 1989 by American entrepreneur Peter Gerwe. He began
with a radio station, started a TV station in St. Petersburg in
1991 and built it into a national network in Russia by 1996. In
2006, CTC listed shares on Nasdaq. Today, CTC operates four
entertainment channels in Russia and one in Kazakhstan.

“For the first several years, CTC was entirely owned by
Americans, so it was natural for us to register it in the
U.S.,” Gerwe said. He sold his stake in the company in 2009 and
isn’t familiar with the sanctions issue, he said.

U.S. financial institutions own almost a quarter of CTC.
Shareholders include JPMorgan Chase & Co., BlackRock Inc., and
Franklin Resources Inc. All three declined to comment.

‘Personal Banker’

In 2011, Bank Rossiya bought a quarter of CTC through a
Cyprus subsidiary, Telcrest Investments Limited. The Rossiya
unit designates three of CTC’s nine directors.

Kovalchuk owns 40 percent of the bank. When the U.S.
Treasury Department sanctioned Rossiya and Kovalchuk, it
described him as “the personal banker for senior officials of
the Russian Federation including Putin.”

The European Union, which maintains a separate blacklist,
hasn’t sanctioned either Rossiya or Kovalchuk. Rossiya declined
multiple requests for comment.

Kovalchuk and several partners bought Rossiya, a former
Communist Party bank, in 1991. Trained as a physicist, Kovalchuk
has owned a home at Putin’s lakeside dacha compound near St.
Petersburg along with several other Putin associates on the U.S
sanctions list.

Rossiya’s success is closely linked to Putin’s political
rise. It now has total assets of about $10 billion, according to
the U.S. Treasury Department.

‘Russian Murdoch’

Kovalchuk has been called a “Russian Murdoch.” Through
the bank, he has accumulated stakes in several media outlets,
including the newspaper Izvestia as well as CTC.

Last year, CTC paid dividends to Telcrest of about $25
million. Because Telcrest is majority-owned by a sanctioned
entity, CTC said on April 30 that it placed into a restricted
account a $6.9 million dividend due to the Rossiya subsidiary.

CTC also recused the three Telcrest-picked directors from
participating in deliberations relating to “any transaction or
dealings in which Telcrest has a property interest,” although
they may continue to attend board meetings, according to
securities disclosures. CTC is “conferring directly with” the
U.S. Treasury Department for guidance about the directors’ role,
Ivanov said.

So far, so good.

Video International

Except Kovalchuk’s bank also owns part of Video
International, Russia’s largest television advertising company.
CTC has been working with Video International for at least 15
years, Gerwe said.

Rossiya holds a 16 percent stake in Video International,
Elizaveta Sviridova, a spokeswoman for the advertising company,
said in an e-mail. In reality, Bank Rossiya controls Video
International, according to a person with direct knowledge of
the matter, who declined to be identified because of the
sensitivity of the information.

The extent of the blacklisted bank’s involvement is hard to
determine because at least 65 percent of Video International is
held by a series of companies in Cyprus whose ultimate ownership
is unclear, according to data compiled by Spark, which tracks
Russian firms. Video International is not publicly traded.
Sviridova declined to identify the mystery investors, and Ivanov
declined to say whether CTC knows who they are.

Until 2011, Video International placed TV advertising on
CTC’s channels. A law change forced CTC to develop its own
advertising sales department, relying on Video International for
software support.

Treasury rules only prohibit U.S. firms from doing business
with companies that are at least half-owned by people or
entities under sanctions, which Video International is not,
according to CTC. Thus CTC can legally buy services from Video
International, benefiting Rossiya.

Minority Stake

Because Rossiya holds a minority stake, “we therefore
understand that VI is not covered by the sanctions,” said CTC
spokesman Ivanov.

A spokesman for Modern Times Group AB, CTC’s largest
shareholder with about a 38 percent stake, said it has no
concerns about the relationship with Video International.

“CTC Media has sought and received confirmation that the
parties subject to the sanctions do not own more than 50 percent
of Video International,” said the spokesman, Per Lorentz.

Asked whether Video International still receives payments
from CTC, Sviridova said, “Why shouldn’t we?” The company’s
business with CTC continues as usual, she added.

Gennady Timchenko

Besides Rossiya and the unknown owners, another 2.5 percent
of Video International is owned by Sogaz Insurance Group. Sogaz
is majority held by a combination of Rossiya and Volga Group,
the investment arm for Gennady Timchenko, a Putin associate and
co-founder of oil trader Gunvor Group Ltd., who is on the
sanctions list.

Timchenko sold his 44 percent stake in Gunvor the day
before the U.S. blacklisted him in March. U.S. authorities said
that Putin personally owns a stake in Gunvor, which the company
denies.

‘Act With Caution’

The Treasury Department advises U.S. persons to “act with
caution” dealing with entities where sanctioned people have “a
significant ownership interest” even if less than 50 percent --
or which they may control by other means. That’s because those
entities may be the subject to future actions by the agency’s
Office of Foreign Assets Control, according to guidance on the
agency’s website.

U.S companies that work with firms in which blacklisted
entities have any ownership interest should undertake
significant due diligence, such as hiring investigators to
conduct interviews or seek documents, said Erich Ferrari of
Ferrari & Associates, a Washington law firm that specializes in
sanctions.

Companies should make sure “they’re not dealing with a
party that is controlled, even if it’s not owned on paper, by a
blocked party,” he said.